Seeing Green: Opening the Vaults for Clean EnergyMay 7th, 2012 | By Nicholas Epstein
Kenneth Berlin is the Senior Vice-President for Policy and Planning and the General Counsel of the Coalition for Green Capital (CGC). CGC is a not-for-profit working to set up “green banks” on the state, national and international levels. Mr. Berlin is the former head of the law firm of Skadden, Arps, Slate, Meagher & Flom’s environmental and climate change practices. He is the former Chairman of the Board of the Environmental Law Institute and the current Chairman of the Board of the Center for International Environmental Law.
What is a Green Bank? How does the financing work?
A green bank is an investment fund that provides low cost financing to clean energy and energy efficiency projects. Green banks would be set up as public private partnerships and could be set up on the state, national or international levels. In the case of a state green bank, for example, the state would re-purpose some set of its existing funding for clean energy and energy efficiency projects (we are not asking for new funding) to the green bank.
To determine which funds should be re-purposed, the Coalition for Green Capital (“CGC”) would work with state officials to identify funds that are being given as grants or otherwise given in a way that can’t be leveraged.
Investors in the private sector looking for long term safe investments would invest in the green bank. These are like people who would invest in bonds—not private equity investors who would require too high a rate of return to allow low interest loans. The green bank would then combine government funds (which would require only a very low rate of return) and the private investment funds (the rate of return on which would be capped at about 8%). So it would be able to provide a very low interest rate loan based on the average rate of return between the government funds (let’s say 2%) and the private funds (8% in this example).
The green bank would attempt to leverage the funds. Returns on the investment (the amount of the loan plus interest rates) would go into a revolving fund. For example, $1 in state funds could be matched by $1 in private funds and then very conservatively leveraged 5x, allowing the $1 in state funds to support $10 of projects.
Would the Green Bank provide financing for only field-ready technologies or research dollars for high-risk experimental technologies as well?
We think a green bank works most easily for field-ready technologies since those technologies meets our criteria for low risk projects that could be financed at a low interest rate. The hard question: is a bank or a venture capital model best for high-risk technologies?
The venture capital type model adjusts for expected losses through profits from successful fund investments. This is more an equity model then a bank model, although a bank could do this. The other approach is for the bank to set a very high loan loss reserve. Let’s say there is a 10% risk of failure. The investor would have to put up 10% at the time of closing (the 10% is the credit subsidy fee). The 10% would be held as the loan loss reserve.
In the private sector this is done by increasing the size of the loan so that the investor does not have to put up the 10% as cash. If the loan were for $100 million and the risk 10%, the loan would be for $110 million, 10 million would fund the reserve, and the borrower would repay the $110 million over time. In the recent DOE loan programs, DOE did not allow the borrower to finance the credit subsidy fee—the borrower had to put up the $10 million in advance. This seriously affected the program until the government agreed to put in the credit subsidy fee and thus to take the risk itself.
Why not let the market for energy work without public interference? Won’t demand for fossil fuels eventually be replaced by clean energy without public entities picking winners and losers?
The following answer is taken from a forthcoming Brookings article written by Mr. Berlin: “Creating State Green Banks: How New Ways to Finance Clean Energy and Energy Efficiency Projects Can Reduce the Cost of Clean Energy and Replace Expiring Federal Credits and Subsidies.”
Green banks are needed because clean energy projects still cost more than fossil fuel based projects, and energy technologies are particularly sensitive to cost constraints. Most technologies that generate electricity, no matter how exciting, don’t offer anything new to a consumer. When energy generation is involved, all the consumer receives is a flow of electrons that is identical to the flow of electrons from older technologies. Since the consumer is not receiving anything new, consumers oppose paying more. And consumers have a weapon to block price increases—they can go the regulators of the energy suppliers and ask them to block any price increases. Thus, using a Steve Jobs phrase, without some sort of support, even an insanely great new energy technology cannot be sold if it costs even a small amount more than fossil fuel generated energy.
There are sound economic and other reasons why new, clean technologies like wind, solar, advanced biofuels and batteries should be supported even though they currently cost more than fossil fuel technologies.
First, all of these technologies are becoming less expensive each year with every prospect that one day they will be fully competitive on their own with existing fossil fuel plants or new natural gas plants. Second, while there is a need for tremendous investment in developing new technologies, it does not work to say wait for new technologies. Many of the advances in the energy field have been incremental, based on learning from the deployment of a technology. And, there is no guarantee that a new technology will be cost competitive in its early iterations.
Third, the clean technology industry is likely to be a multi trillion dollar industry on the global level. Other countries will support these industries until they become cost competitive, and if the U.S. doesn’t, it will lose this market, and for the first time in over a century, it will not be a player in a key technology business. Fourth, support for clean energy is designed to correct a market failure. Fossil fuel companies do not take into account the external effect of the cost of pollution or carbon emissions. So the most obvious benefit of clean technologies—they are almost pollution free—is not priced into the cost of electricity.
Fifth, unlike Solyndra, which was producing a new technology with uncertain demand, many new clean energy projects raise little technological or market risk. Many clean energy projects are funded only after they have signed long-term agreements with users to purchase their output. High-risk technologies can be funded, but the funding entity has to have a model, like a venture capital model, that recognizes there will be failures and that provides a financial structure that protects against those failures. Sixth, clean energy technologies have large environmental and energy benefits.
The bottom line: Even though in the past few years clean energy projects have been dropping in production and operating costs, in most cases the delivered cost of energy from clean energy projects remains higher than the delivered cost of energy from existing power generation facilities.
What other policies, tax-incentives and regulations are needed to help spur non-carbon emitting technologies into the marketplace?
Green bank financing is one of the tools that can be used to lower the cost of a clean energy technology Tax incentives can also be used and the CGC has done extensive work analyzing tax provisions. Arguably, green banks can be thought of as having no or a low score or accounting cost to the government because the funds are recovered and loan loss reserves can be established to cover the risk.
Tax provisions have higher scores because the funds are not recovered by the government (although scoring is very complicated and there are arguments that some tax provisions should have low scores). The scoring issue is creating a great problem for tax incentives since most have sunset dates and if they receive a score, matching offsets have to be found in other areas of the budget.
Finding offsets is very difficult in our current financial environment and there is a chance—and probably a likelihood—that many of the tax incentives will not be renewed or will be renewed at a lower level. So green banks can work in tandem with tax incentives to lower the cost of clean energy projects or green bank financing can significantly lessen the amount of tax incentives needed to deploy a technology.
Clean energy standards or renewable energy standards (together “CES”) can also create great demand for clean energy. Senator Jeff Bingaman (D-NM) has just introduced national CES legislation and about 29 states have CES standards. The issue in the states is that the CES legislation in all states, I believe, includes opt out clauses relaxing the standards if clean energy becomes too expensive. This creates a significant risk for renewable projects as the federal incentives on which they rely diminish. Green banks thus work well with CES since green banks can provide the low cost financing needed to make the projects cost competitive.
Realistically, what energy-related legislation has a shot at passing through Congress in the next few years?
I don’t expect any energy legislation to pass in 2012. If President Obama is reelected and the congressional results are okay, then I think that there is a good chance for clean energy legislation (but not carbon legislation) in the Congress beginning in 2013. There is strong support for such legislation and in the Bush years two major energy bills were passed.
How will the energy market landscape change in the next twenty years?
I think that we will see several clean energy bills passed in the next 5-10 years that will facilitate the transition of our economy to a clean energy economy. They will include CES, green banks and renewed tax incentives and many other measures designed to enable this transition. Natural gas will be regulated and will be an important bridge fuel to a clean economy. Renewables like wind and solar will become increasingly competitive and will eventually become fully cost competitive. Meanwhile battery technologies will advance until we are able to store intermittent renewable power, converting it into baseline power, and enabling the transition of renewables to baseline fuels.
The future of nuclear is still unclear because of the cost of nuclear plants. If they are smart, fossil fuel generators will work on developing CCS [carbon capture sequestration] so that their carbon footprint is almost eliminated. Otherwise, they will gradually be replaced by renewables.
I think that we will see carbon legislation towards the latter half of this decade. As it becomes more apparent that renewables are becoming cost competitive and that we can transition to a clean economy at a reasonable cost (and eventually to our great benefit), carbon legislation will become more and more acceptable. And I think that the existential threat that global warming poses to society will become more obvious each year.
Feature photo: cc/Sprengben